Private pensions can be an efficient way to pass on wealth, but it is important to consider what, if any, tax will be payable on an inherited private pension. The person who died will usually have nominated the recipient by telling their pension provider that they should inherit any monies left in their pension pot. If the nominated person can’t be found or has since died, the pension provider may make payments to someone else instead.
In general, if you inherit a private pension and the owner of the pension fund died before the age of 75, the benefits left in a private pension can be paid as a lump sum or as drawdown income with no tax to pay. If the deceased passed away after the age of 75 the pension will be taxed at your marginal Income Tax rate, so 20% if you are a basic rate taxpayer or 40% if you are in the higher tax bracket and 45% if you pay tax at the top rate. The rates may differ if you are a Scottish taxpayer.
There are restrictions on pensions from a defined benefit pot (usually workplace pensions) whereby the pension can usually only be paid to a dependant of the person who died, for example a husband, wife, civil partner or child under 23. This rule can sometimes be changed if the pension fund allows, but the inheritance will be taxed at up to 55% as an unauthorised payment.
The rules on inheriting a pension are complex and depend on what type it is and how old the holder was when they died. For example, you may also have to pay tax if the pension pot owner was under 75 but had pension savings worth more than £1,073,100 (the lifetime allowance) when they died. There are also important time limits that must be followed.